Caterpillar Won’t Have to Do Much to Pop

by Joseph Hargett | April 19, 2013 11:27 am

It has not been easy being a Caterpillar (NYSE:CAT[1]) shareholder during the past year. The stock has plunged more than 20% during this period, leaving CAT hovering just shy of its 52-week lows. What’s more, the stock is currently locked in a steep downtrend, capped by its 10- and 20-day moving averages.

Click to Enlarge That said, CAT shares are perched above long-term support at the $80 level, and their 14-day relative strength index (RSI) has dipped below the key 30 level. In other words, CAT is oversold and trading near long-term support, so it has that going for it, which is nice.

On Monday morning, Caterpillar has a chance to help staunch the bleeding for shareholders, as the company is scheduled to release its first-quarter earnings figures for fiscal 2013.

Expectations are extremely low for Caterpillar, with revenue seen falling 13.6% year-over-year to $13.871 billion in the first quarter. Earnings, meanwhile, are seen plunging 43% to $1.34 per share from $2.37 per share in the year-ago period.

The consensus estimate has fallen steadily during the past three months from initial expectations for earnings of $1.80 per share. What’s more, some analysts have even lower sights set, with EarningsWhisper.com reporting a whisper number of $1.33 per share.

Despite Caterpillar’s earnings woes, many in the brokerage community have not given up on the stock. For instance, according to data from Thomson/First Call, 14 of the 23 analysts following CAT rate the stock a “buy” or better, compared to nine “holds” and no “sell” ratings. Furthermore, the 12-month consensus price target of $109 represents a hefty 35% premium to CAT’s close at $80.46 on Thursday. Those contrarian investors out there know that this enthusiasm toward an underperforming stock is a major red flag.

Options traders, meanwhile, are quite bearish on Caterpillar’s short-term prospects. Currently, put open interest in the April/May series of options (including weeklys) totals 93,556 contracts, compared to call open interest of just 81,930 contracts. The result is a heavily put-weighted April/May put/call open interest ratio of 1.14.

Taking a closer look, we find that options traders are centered on the May 80, 82.50 and 85 put strikes, with each sporting open interest of more than 10,000 contracts. On the other hand, calls have accumulated at the May 90 strike, with open interest of 13,138 contracts, and the May 92.50 strike, with 8,819 contracts.

Overall, implied volatility on weekly April 27 options appears to be pricing in a post-earnings move of nearly 4.7%. This places the upper bound of the expected move near $83.74, while the lower bound rests near $76.26.

Given this data — especially the oversold technical conditions and price support near a 52-week low — I’m inclined to bet on a short-term bounce from CAT. Basically, with most of the poor economic data already priced into the shares, all the company has to do is match lowered profit expectations and remain firm in its fiscal 2013 outlook, and the stock should see positive price action after announcing earnings.

For those traders looking to capitalize on a potential post earnings bounce, a May 80/85 bull call spread could fit the bill.

This trade was offered at $1.99, or $199 per pair of contracts, at the close of trading on Thursday. Breakeven lies at $81.99, while a maximum profit of $3.01, or $301 per pair of contracts, is possible if CAT closes at or above $85 when May options expire.

As of this writing, Joseph Hargett did not hold a position in any of the aforementioned securities.